## Friday, March 21, 2008

According to students here at ISB, the rent to price ratio in Hyderabad is between 2 and 3 percent. Mortgage rates are 12 percent; mortgage interest is tax deductible here, and the marginal tax rate for most buyers is 33 percent, so the after-tax cost of capital is 8 percent. Add to that maintenance costs and a risk premium on housing equity, and the housing market needs to appreciate something like ten percent a year to be sustainable. But of course this will not happen forever.

One surprise--in the formal market for housing in India, homebuyers can get mortgages with LTVs of up to 90 percent.

Anonymous said...

So you have to wonder why savers are loaning their hard earned money to people who will only repay if an unsustainable event occurs (10% annual appreciation in perpetuity)?

Anonymous said...

What are driving the prices up?, the cost of land, construction material, labor rates, Builders mark-up.

I do agree LTV 90% is scary with rent to price ratio less than 3%, unless some one has permanent job and able to pay the mortgage.

Anonymous said...

Here is my calculation: you have to factor in inflation. The borrower's real after tax cost of capital should be used to discount the expected real after tax free operating cashflows.

You can do the math using 5% average inflation, 7% (14% nominal rate - 5% inflation - 2% tax effects) after tax real cost of capital.

on the numerator:

Your current period after tax cash flow yeild of 2.5% with a real growth rate in operating cashflow = 4%(estimated to approximately equal growth in factor labour productivity growth; economic justification for this forecast is that real wages would grow in line with productivity per unit labor per unit capital)

so based on a back of the envelope calculation:

value/price = 2.5(1.04)/(7% -4%) = approximately 85%.

Therefore, assuming the inputs are correct, there will be a drop of, say, 15% in real terms. So depending on how long it will take for the correction to occur, the nominal price reduction and the resultant pain can be estimated. If history is any guide, one should expect a pessimistic mood possibly spiked with political unrest. Market once again failed to use the right discount rate.

Anonymous said...

Real estate market is very slow in hyderabad. around 35,000 flats are for resale
by banks dueto non payment of emi by the customers. by march 2009 few more thousand
flats will come for resale. prices are down by 30%- 40% .it is the right time to buy